2025-03-10
Financial markets are dominated by "crony beliefs" - ideas held not because they're accurate but because they're professionally advantageous. Recognizing this reality is useful.
Wall Street teems with beliefs that persist because they advance careers and signal belonging, not because they reflect reality. These are maintained through a professional ecosystem that rewards conformity over accuracy. It rewards crowdedness.
The investing world's fixation on prediction creates a fundamental misalignment with how knowledge actually advances. When certainty appears highest about market forecasts, we're often on the edge of being dramatically wrong. No amount of historical pattern-matching can protect against this reality. This is an induction or prediction-centered view. We need to instead look for better explanations.
Consider the fundamental flaw in prediction-centered or inductivist investing: A chicken observes the farmer bringing food every morning and predicts this pattern will continue indefinitely for 30 days —until the one day on the 31st day when the farmer comes around to the chicken and wrings its neck. The chicken's failure stems from lacking an explanatory framework for understanding the farmer's true intentions. We need better explanatory frameworks, not better historical pattern-matching or recognition techniques.
Similarly, investors relying on pattern recognition without deeper explanations remain vulnerable to sudden regime changes. They assume historical patterns will extend forward without understanding the mechanisms creating those patterns in the first place.
The most successful investors I've studied don't merely collect data points—they develop explanatory frameworks with causal depth. They don't just predict earnings growth; they construct robust theories about why businesses generate value, how competitive positions evolve, and what factors might alter trajectories.
What makes powerful investment explanations is their "hardness to vary." Quality explanations are constrained by reality in ways making them difficult to modify while still accounting for observations. Poor explanations accommodate any outcome, making them essentially unfalsifiable and unreliable. When an analyst says, "Markets will either continue up or face correction," they're offering an explanation so flexible it's meaningless.
This means subjecting investment theses to rigorous criticism, seeking disconfirming evidence, and willingly abandoning theories that don't hold up. The goal isn't being right initially but converging on explanations that best match reality through a critical process. Finding the best theory at hand, from competing theories.
Applying an explanatory framework requires intellectual honesty and courage to stand apart from consensus. It means recognizing our own crony beliefs about markets. Ask yourself: "Which investment beliefs do I hold because they're accurate versus which do I maintain because they're socially advantageous?"
By understanding that investment knowledge grows through creative explanations rather than pattern-matching, we free ourselves from conventional market thinking.
We should seek superior explanatory models of how businesses and markets actually function. When we focus on building these models rather than seeking social validation, we position ourselves to see opportunities that others systematically miss.
Useful links of sources that I enjoyed reading:
The Beginning of Infinity: Explanations That Transform the WorldThe Fabric of Reality: Towards a Theory of EverythingCrony Beliefs